ABC, Inc. just paid a dividend of $2. ABC expects dividends to grow at 10% annually forever. The return on shares like ABC, Inc. is typically around 12%. What is the most you would pay for ABC’s share?

Question

ABC, Inc. just paid a dividend of​ $2. ABC expects dividends to grow at​ 10% annually forever. The return on shares like​ ABC, Inc. is typically around​ 12%. What is the most you would pay for ABC’s share?

BlackTom AI · Accepted Answer

To evaluate the stock price, we should apply the Gordon growth model, which values a perpetually growing dividend as P0 = D1 / (r − g).
First, compute D1, the dividend next year: D1 = D0 × (1 + g) = 2 × 1.10 = 2.20.
Next, determine the required rate of return minus growth: r − g = 0.12 − 0.10 = 0.02 (or 2%).
Now plug into the formula: P0 = 2.20 / 0.02 = 110.
Option a, $110, matches this calculation, so it is the correct price under the Gordon growth framework.
Option b, $120, would imply either a higher D1 or a smaller discount rate; specifically, 120 × 0.02 = 2.40 would be the required D1, which contradicts the given D0 and g (D1 is fixed at 2.20).
Option c, $130, would require D1 = 130 × 0.02 = 2.60, again not aligning with the actual next-year dividend of 2.20.
Option d, $100, would imply D1 = 100 × 0.02 = 2.00, which is also inconsistent with the stated D1 of 2.20.
Thus, the only price that aligns with the given dividend, growth rate, and required return is $110.

MCD2170 Foundations of Finance - Trimester 3 - 2025

ABC, Inc. just paid a dividend of $2. ABC expects dividends to grow at 10% annually forever. The return on shares like ABC, Inc. is typically around 12%. What is the most you would pay for ABC’s share?

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MCD2170 Foundations of Finance - Trimester 3 - 2025

ABC, Inc. just paid a dividend of​ $2. ABC expects dividends to grow at​ 10% annually forever. The return on shares like​ ABC, Inc. is typically around​ 12%. What is the most you would pay for ABC’s share?

View Explanation

Log in for full answers

Similar Questions

ALP’s most recent dividend was​ $2.00 per share and is selling today for​ $70. The dividend is expected to grow at ​ 7% per year for the foreseeable future. Should you purchase the share if the market return is​ 10% on investments with comparable​ risk?

Using a dividend discount model, find the intrinsic value (price at time zero) for a firm whose expected dividend is $1.92 and growth in dividends for year 2, 3, and 4 is 23.2% and constant growth afterwards is 0.54%. The cost of equity is 9.21%. (Answer in 2 decimal places, 6.21 for $6.21).

Using a dividend discount model, find the intrinsic value (price at time zero) for a firm whose expected dividend is $1.37 and growth in dividends for year 2, 3, and 4 is 13.8% and constant growth afterwards is 1.42%. The cost of equity is 6.67%.

AWSM has just paid a dividend of $1.24 and is expected to increase the future dividends at a rate of 3% per year indefinitely. If you, as a shareholder, require 12% per year, what is the current price per share?

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More Practical Tools for Students Powered by AI Study Helper

Making Your Study Simpler

ABC, Inc. just paid a dividend of $2. ABC expects dividends to grow at 10% annually forever. The return on shares like ABC, Inc. is typically around 12%. What is the most you would pay for ABC’s share?

ALP’s most recent dividend was $2.00 per share and is selling today for $70. The dividend is expected to grow at 7% per year for the foreseeable future. Should you purchase the share if the market return is 10% on investments with comparable risk?